Westminster blog

The IDS welfare white paper is impressive in parts. But it is difficult to work out some of the most basic knock-on effects. After having struggled in vain with the data provided, Ian Mulheirn of the Social Market Foundation looked asked a broader question:

What will happen to the incentives to work of a typical working family between 2010 and 2014, if they moved straight on to Universal Credit?

The answer is they’ll be paying about 6p in the pound extra in tax. It doesn’t quite match today’s rosy political rhetoric.

Who are these families? There are roughly 1.4m working households that were identified in the 2010 Budget as having a marginal deduction rate of 70 per cent (which is made up of 31 per cent in tax and 39 per cent from the withdrawal of tax credits). These are middle income working families paying tax and receiving tax credits.

Under the coalition (with the help of some policies inherited from Labour) their incentives to progress in work will steadily deteriorate over the next three or four years. Why?

–  The rise in NICS of 1p increased the marginal deduction rate (MDR) to 71 per cent

– The June Budget raised the tax credit taper from 39 to 41 pence in the pound, raising the MDR to 73 per cent

– If they moved straight on to the Universal Credit, their MDRs will rise further to 76 per cent (32 per cent tax and NICS plus 65 per cent of net income: the remaining 68p in the pound)

Now there will be some transitional arrangements. And none of us can predict what tax changes will be made over the next few years. But this gives a good guide to how the entitlements of a typical family will change over the coming years — particularly because it includes policies introduced ahead of the Credit.

Mulheirn’s summary:

So overall, a typical working family will see a steady rise in their effective marginal tax rate of 6p in the pound. The governments welfare reforms will dramatically cut the number of families on very high MDRs, but it will do so at the cost of further increasing MDRs for a large number of families already on pretty high effective tax rates.